With the 2014 calendar year nearly in the rear-view mirror, share prices of grain-based foods companies appear comfortably poised to enjoy another year of solid gains. As of Nov. 28, the Grain-Based Foods share index compiled by Milling & Baking News stood at 19682.74, up 13% for the year. The index, which comprises publicly traded companies in the baking and milling/processing sectors, rose 23% in 2013, 16% in 2012 and has more than doubled the 9146.77 mark closing the difficult year of 2008. Through the end of November, the index kept pace with the high-flying S.&P.500, which was up 12%.
In the eyes of Wall Street analysts, the share price performance of many companies in the grain-based foods and packaged foods universe has been powerfully at odds with the underlying financial results posted by most of these businesses. Rob Moskow, an analyst with Deutsche Bank in New York, said 10 of the 15 packaged foods companies he follows in his practice have failed in 2014 to achieve the companies’ own earnings guidance for the year. While Mr. Moskow cited factors uniquely challenging to grain-based foods, including a continued consumer shift toward consumption of proteins and away from carbohydrates, fragile consumer confidence has remained a drag for the consumer packaged foods sector.
A consideration of the outlook for 2015 underscores the degree to which the fundamental prospects for companies and their share price prospects may diverge yet again. Economic news in recent days offers the industry cause for hope in the year ahead. Job growth in November was an eye-popping 321,000, but perhaps even more importantly, it was the 10th straight month of job growth in excess of 200,000, the longest such streak in 20 years. Augmenting the heady job market and higher wages as an augur of an improved outlook for grain-based foods has been the precipitous decline in oil prices, poised to put hundreds of dollars annually in the pockets of consumers, with a particularly pronounced impact on the lower-income public. Beyond the significant discretionary consumer spending these developments will allow, the financial injections will gird consumer confidence, the lack of which has been blamed as a principal factor in the continued sluggishness of the economy six years after the conclusion of the Great Recession. So shaky has confidence been that a larger and larger proportion of food spending, especially new products and premium items, has been characterized by industry executives as “discretionary.”
Paradoxically, the same promising signs for the underlying businesses of grain-based foods could set the stage for a very different and less lustrous investment environment for the industries’ shares. Understanding this risk requires examination of the causes of the outperformance in 2014 and earlier, the period in which earnings growth has been lacking. This disconnect is ascribed by Mr. Moskow primarily to the companies’ relatively high dividend payouts. These have been magnets for investors frustrated by bond yields at depressed levels. The Consumer Staples sector of the S.&P.500 had a dividend yield of about 2.3% as of early December, and the median payout rate among grain-based companies issuing dividends was 2.7%. By contrast, the S.&P.500 yield overall was less than 2%.
While share prices always are susceptible to weakness when interest rates move upward, grain-based companies, perched on a high valuation cushion because of low interest rates, appear vulnerable going into 2015. Rates have remained weak far longer than pundits had expected, but the strong jobs numbers in 2014 with the unemployment rate beneath historical averages and prospective increases in consumer spending suggest the Federal Reserve’s accommodative stance may be nearing its end. Notwithstanding potential market swings resulting from higher rates, grain-based foods executives will have good reason to celebrate the long-awaited improvement in consumer spending as that trend unfolds.
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